International Business Diplomacy

The Ethics and Business Diplomacy of MNE Tax Avoidance

Duane Windsor,
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To cite this document: Duane Windsor, "The Ethics and Business Diplomacy of MNE Tax
Avoidance" In International Business Diplomacy. Published online: 28 Nov 2017; 151-171.
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 The Ethics and Business Diplomacy of
MNE Tax Avoidance
Duane Windsor

Abstract
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Purpose — This chapter examines the ethics and business diplomacy of legal tax
avoidance by multinational enterprises (MNEs).
Design/methodology/approach — The methodology assembles the relevant literature
and examines alternative interpretations of corporate tax strategy. Key topics
include business ethics and responsibility, business sustainability, economic patriot-
ism and corporate inversions, tax havens, and possible solutions.
Findings — The debate concerns whether legal tax avoidance is unethical and/or
poor business diplomacy. There are three possible strategies for MNEs. One strategy
is intentional tax avoidance. Another strategy is business government negotiation
concerning tax liability. Another strategy is business diplomacy aimed at maximizing
the social legitimacy of the firm across multiple national tax jurisdictions.
Social implications — The chapter assesses four possible solutions for corporate tax
avoidance. One solution is voluntary tax payments beyond legal obligations whether
out of a sense of ethics or a strategy of business diplomacy. A second solution is
international tax cooperation and tax harmonization in ways that minimize opportu-
nities for tax avoidance. A third solution is increased stakeholder pressure emphasiz-
ing business diplomacy and tax cooperation and harmonization. The fourth solution
is negotiated tax liabilities between each business and each jurisdiction.
Originality/value — The chapter provides an original systematic survey of the key
aspects of corporate international tax avoidance in an approach in which business
ethics and business diplomacy are better integrated. The value of the chapter is that

International Business Diplomacy: How Can Multinational Corporations Deal with Global Challenges?
Advanced Series in Management, Volume 18, 151 171
Copyright r 2018 by Emerald Publishing Limited
All rights of reproduction in any form reserved
ISSN: 1877-6361/doi:10.1108/S1877-636120170000018005
 152 Duane Windsor

it provides information and assembles relevant literature concerning corporate

international tax avoidance, and addresses possible solutions for this problem.

Keywords: Corporate inversion; corporate tax responsibility; economic patriotism;

tax avoidance, tax havens, tax minimization

Introduction

This chapter examines the ethics and business diplomacy of tax minimization
through tax avoidance or tax sheltering by multinational enterprises (MNEs). This
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focus excludes state-owned enterprises (SOEs) and purely domestic businesses. The
chapter uses the terms business and corporation interchangeably for MNEs. Also,
business diplomacy and corporate diplomacy are basically the same; business ethics
and corporate ethics are basically the same. Ethics denotes a rationale for accepting
a moral obligation not required by law. (There is a general moral obligation to
obey the law, but civil disobedience doctrine provides a basis for disobeying
immoral laws.) Acceptance might be strictly voluntary, in the sense that executives
and directors wish to be ethical, fair, and just; or responsive, willingly or grudg-
ingly, to stakeholder and social expectations, in the sense of corporate social
responsiveness. A growing body of literature calls for nonavoidance behavior by
businesses on ethical or responsibility arguments. That is, ethical and responsible
businesses willingly should pay taxes beyond legal requirements. The usual rationale
is the desperate social need for tax revenues. This set of arguments will be termed
corporate tax responsibility (CTR), as a special category within business ethics and
corporate social responsibility (CSR). Business diplomacy involves a broader com-
mitment to the public good. In addition to assessing the ethical and responsibility
literature on nonavoidance behavior, this chapter explores the business diplomacy
strategy of nonavoidance behavior.
In general terms, business diplomacy in an international business environment of
multiple stakeholders, of variable power and importance to an MNE, concerns
maximizing corporate legitimacy through responsiveness to social public demand in
order to improve the public good (Ordeix-Rigo & Duarte, 2009; Wolters, 2012).
Stakeholder views of tax policy and tax compliance involve variable conceptions of
fairness and burden (Chittenden & Foster, 2008). As a result, an optimal outcome
in which all affected stakeholders are reasonably satisfied voluntarily seems
unlikely, but not strictly impossible.
To address the ethics of tax avoidance in a business diplomacy strategy, the
chapter will examine tax avoidance, tax minimization, fairness, burden, corporate
citizenship, economic patriotism, and related concepts (including especially CSR
and business diplomacy strategy). The chapter will link this conceptual examination
to the ongoing efforts at improved tax coordination in the European Union (EU)
and across multiple countries. The issues of corporate inversions and tax havens
will be discussed.
 MNE Tax Avoidance 153

This examination includes descriptive (what is), instrumental (how to), and nor-
mative (ought to) dimensions. While business diplomacy can be a purely instrumen-
tal strategy to maximize a MNE’s social legitimacy in relationship to social public
demand/expectations, ethics adds a normative dimension to strategic judgment.
A prescriptive theory of CTR combines instrumental and normative considerations.
Shareholders of MNEs have a strong financial interest favoring reduction of avoid-
able tax liabilities, so that increasing voluntary tax payments may or may not be the
obvious choice. Tax minimization can occur through legal tax avoidance or illegal
tax evasion. “Loopholes” even if obtained by corporate lobbying or close tax code
interpretation are legal devices. A tax code is a purely positive enactment,
although theoretically resting on normative conceptions of fairness concerning pro-
gressivity and relationship of benefits obtained to taxes paid. Various MNEs may be
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structured intentionally and legally for global tax minimization through “tax avoid-
ance in every jurisdiction” (Christensen & Murphy, 2004, p. 37). A carbon tax for
reducing climate change effects may become part of the tax environment for MNEs.
The key definitions used in this chapter are as follows. An MNE is a private
business whether publicly traded or privately owned that operates in two or
more (and typically multiple) national tax jurisdictions. A two-jurisdiction MNE
could have two home countries as illustrated by Royal Dutch Shell headquar-
tered in the Netherlands and the United Kingdom. A multiple-jurisdiction MNE
will typically have only one or two home countries, with all other jurisdictions being
host countries. Operating across national tax jurisdictions, an MNE can adjust tax
liabilities through various legal devices permitted by those tax jurisdictions. Tax
minimization is action to reduce liabilities and payments to tax authorities. A busi-
ness can minimize taxes by tax avoidance, tax evasion, or corrupt payments. Tax
avoidance or tax sheltering is legal reduction of overall tax liability. Tax codes per-
mit the adjustments involved. If jurisdiction 1 has a lower tax rate and jurisdiction
2 has a higher tax rate, and if the MNE can arrange to have tax liability shifted
from jurisdiction 2 to jurisdiction 1, then the MNE is (1) minimizing tax liability,
and (2) engaging in tax avoidance in jurisdiction 1. Tax evasion or tax cheating is
illegal reduction of tax liability, but such evasion or cheating occurs more with indi-
viduals or businesses operating in the shadow economy. Tax evasion appears more
likely with domestic businesses than with MNEs (Bordignon & Zanardi, 1997). It is
not impossible that corrupt payments could be made to tax authorities. Tax cooper-
ation is intergovernmental coordination in tax matters, such as exchange of infor-
mation. Tax harmonization means identical or closely similar taxes across
countries, particularly in a particular region such as the EU. There all member-
states must have a standard value-added tax rate of at least 15% (there are certain
exceptions for which the reduced rate must be at least 5%), essentially to avoid tax
competition through rate reductions. Typically, tax harmonization involves increas-
ing tax rates in the lower tax jurisdictions, rather than adjusting higher tax rates
downward. In principle, however, tax harmonization could be reduction of higher
tax rates and that option is one possibility for addressing corporate tax avoid-
ance. A tax haven is a jurisdiction which affords relatively low or zero taxation in
order to attract businesses (or individuals), in what amounts to tax competition.
 154 Duane Windsor

A purely domestic business in a unitary state cannot legally make analogous

adjustments. The business is either in compliance or not in compliance. Noncompli-
ance is tax evasion. Within a federal system, such as the United States., Canada, or
Australia, a domestic business might be able to adjust tax liabilities analogously
across state/province and local tax jurisdictions. A purely domestic business in a
federal state thus faces a situation analogous to that of the MNE: the domestic
business may operate across subnational tax jurisdictions. There is thus an impor-
tant broader setting for studying the ethics of tax avoidance and tax minimization,
but the focus in this chapter is on tax avoidance by MNEs.
The remainder of this chapter following this introduction is organized into seven
more sections. The second section provides “A Conceptual Framework for Assessing
MNE Tax Strategy.” The third section examines “Ethics and Responsibility in Tax
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Avoidance.” The fourth section discusses “Business Diplomacy in Tax Contribution.”

The fifth section addresses “Economic Patriotism and Corporate Inversion” with
special attention to the United States. The sixth section considers the roles of “Tax
Havens and Transfer Pricing Practices.” The seventh section assesses “Four Possible
Solutions.” The concluding eighth section places tax avoidance in the broader context
of what the author terms public policy avoidance through the ability of businesses to
shift activities across legal codes.

A Conceptual Framework for Assessing MNE Tax Strategy

In January 2016, Google agreed to pay about $140 million in “back taxes” to the
United Kingdom calculated through a change in how the firm measures financial
performance in that country. Google’s European headquarters is in low-tax Ireland.
Previously Google’s attitude had been expressed as “Google’s tax avoidance is
called ‘capitalism’, says chairman Eric Schmidt” (The Telegraph, 2012).
Tax avoidance has been a key policy topic among developing countries, and has
become a hot policy topic in the United Kingdom and Europe, and seems particu-
larly directed at U.S. firms and certain tax havens within or near the EU
(Christians, 2014; Krugman, 2013). Starbucks has been a target of expressed con-
cerns (Fairless, 2015). Apple has been another prominent company under public
scrutiny in the United States (Lochhead, 2013a, 2013b). A merger resulting in
Wahlgreens Boots Alliance was highly controversial (Ethical Performance, 2013;
War on Want, 2013a, 2013b). Within the EU, while not alone Ireland and
Luxembourg have been under particular pressure to reform tax policies attracting
U.S. companies (Houston Chronicle, 2014d, 2014e; New York Times, 2014). In the
United States, corporate inversion has become a hot policy topic. There are con-
flicting views among politicians, pro-tax activists, anti-tax advocates, and CEOs.
CEOs assert two positions: (1) they engage in strict tax law compliance, a legal
argument (Bloomberg News, 2014a); or (2) engage in fair share payment, a moral
argument (Lochhead, 2013b). There is a distinction between criminal and civil laws
on the one hand, and public policy on the other (Wilson, 1989). Taxation is public
 MNE Tax Avoidance 155

policy, backed by criminal and civil penalties for deterrence and enforcement. But
defining fair taxation is quite difficult. There is a basic distinction between benefit
taxation (an individual or entity pays for benefits enjoyed) and ability-to-pay taxa-
tion (one individual or entity is able to pay more for the same benefits). The case
for progressive taxation, on an ability-to-pay principle, can be characterized as
“uneasy” (Blum & Kalven, 1952). One can argue reasonably that businesses should
pay for benefits. Tax avoidance is more typically generated by more progressive
taxation policies.
Corporate governance likely emphasizes incentives for legal tax avoidance
(Armstrong, Blouin, Jagolinzer, & Larcker, 2015). One empirical study finds that tax-
sheltering devices do not on average affect firm value, but do have a positive effect in
the presence of good governance of the particular firm (Desai & Dharmapala, 2009).
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Justice Strine makes three key points. First, firms are profit-seeking organizations,
staffed by profit-oriented people: “Instead of recognizing that for-profit corporations
will seek profit for their stockholders using all legal means available, we imbue these
corporations with a personality and assume they are moral beings capable of being
‘better’ in the long-run than the lowest common denominator” (Strine, 2012, p. 136).
Second, the effectiveness of voluntary self-regulation is strictly limited: “In the end,
policy makers should not delude themselves about the corporation’s ability to police
itself; government still has a critical role in setting the rules of the game” (Strine,
2012, p. 136). Third, international cooperation of the type needed to handle tax
havens and increase corporate tax payments is difficult to achieve: “The coalition-
and consensus-building required to develop an effective global (or at the least,
OECD-wide) scheme of externality regulation will require enormous leadership and
dedication. But it cannot even begin if we delude ourselves into believing that cor-
porations will effectively regulate themselves” (Strine, 2012, p. 172).
Conceptually, there are three alternative tax strategies for an MNE. One can
think of these strategies as lying along a continuum. At one end of the continuum is
aggressive tax avoidance. An MNE operates to allocate capital and activities across
national jurisdictions so as to minimize legally overall tax liability. This allocation
may have to be weighed against its opportunity cost defined in terms of revenues
generated in each jurisdiction. In some way, the MNE optimizes its tax strategy. At
the other end of the continuum is business diplomacy tax strategy. An MNE oper-
ates to contribute to the public good in each tax jurisdiction. This contribution is
something beyond the tax code, the minimum requirement being nonuse of loop-
holes in the tax code. The advantage to the MNE is that it maximizes its social
legitimacy across tax jurisdictions. In the middle of the continuum is tax negotia-
tion. The difficulty with the anti-tax avoidance criticism is that it (1) calls for volun-
tary tax payments beyond legal requirements, or (2) calls for changes in the tax
code itself such calls being political rhetoric to that purpose. The difficulty with
the pro-business sustainability advocacy is that it sets no limit on the contribution.
For MNEs, the middle of this continuum is negotiated tax payments with each
national government. Negotiation implies that the outcome will be neither minimal
(tax avoidance) nor unlimited.
 156 Duane Windsor

Some MNEs effectively are globally footloose, meaning that there is no sense of
loyalty to any home country. There is a scattered literature around the idea of glob-
ally footloose MNEs (Görg & Strobl, 2003; Van Beveren, 2007). A globally foot-
loose MNE is one owing no loyalty to any particular sovereignty. Decentering and
also what the present author will term “wandering” (from location to location) sug-
gest that footloose MNEs will elect tax avoidance. Fiat’s then CEO reportedly
stated that the company is “Italian based but not an Italian company” (Financial
Times, 2010). MNEs may have a natural tendency to “decenter” (or unbundle) for
business purposes (Desai, 2009). Halliburton operates co-offices in Houston (head-
quarters) and Dubai (field operations).
Tax policy may be intertwined with what has been labeled corporate welfare,
especially in advanced countries. The term corporate welfare, or alternatively crony
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capitalism, implies that governments subsidize businesses inappropriately and unnec-

essarily. Corporate welfare has been characterized as “socialism for the rich, capital-
ism for the poor” and more recently in connection with the 2007 financial crisis
bailouts as “privatizing profits and socializing losses.” One private estimate for the
United States using a broad definition is some $92 billion in federal subsidies
direct or indirect to businesses in fiscal year 2006 (Mattera, 2014; Slivinski, 2007).

Ethics and Responsibility in Tax Avoidance

Aynsley (2014) argued that paying fair share taxes is a corporate duty. This view
depends on the definition of fair share and thus of fairness in taxation. A contrary
view is that there is no such corporate duty and no harm in legal tax avoidance
(Edwards, 2013). An appeal to superior virtue is not a demonstration that harm is
occurring in legal compliance. The duty not to pay taxes greater than actual legal
liability and the responsibility to help governments cope with their financial needs
are in conflict, in a way that requires a sense of ethical judgment or a strategy of
business diplomacy on the part of business executives and directors.
Tax avoidance means that MNEs can move across national tax jurisdictions, and
tax rates vary markedly across those jurisdictions (Deloitte, 2015). The United States
has a high business tax rate (combining federal, state, and local taxes). There are
calls for businesses to adopt CSR standards on taxation (Christensen & Murphy,
2004). However, these calls have to invoke business transparency through publishing
relevant accounting information, or business activities confined to some substantial
economic purpose as distinct from profits-laundering (Christensen & Murphy, 2004;
Payne & Raiborn, 2015). Strictly legal actions are ethically neutral rather than ethi-
cally suspect, although certainly not ethically superior (i.e., virtuous or just). Tax law
doctrines aimed at reducing tax shelters include business purpose, economic sub-
stance, and pre-tax profit requirement (Weisbach, 2002, 2003). While such doctrines
aim at increasing efficiency of the tax system, those doctrines cannot perfectly iden-
tify tax avoidance in advance. Thus, the doctrines may induce welfare distorting
responses by taxpayers seeking to structure new tax shelters (Weisbach, 2002, 2003).
 MNE Tax Avoidance 157

The ethics of just taxation has a long history. Plato (circa 360 B.C.E.) stated in
The Republic (Book I, cited in Rectenwald, 2012, p. 425): “... when there is an
income tax, the just man will pay more and the unjust less on the same amount of
income ...” From this perspective, illegal tax evasion or tax cheating is unjust.
There is a theme of justice in Adam Smith’s The Wealth of Nations (1776)
(De Vries, 1989). Whether the same perspective can be applied to legal tax avoid-
ance is more debatable. One cannot readily argue that an individual should pay more
tax that is legally owed, although one can reasonably argue that the legal tax liability
of an individual should be increased. Part of the debate about corporate tax avoid-
ance thus turns on a distinction drawn between a corporation and an individual,
although a corporation is an association of individuals to whom the net worth of the
business belongs. Corporate tax is a tax on the owners or the shareholders.
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Arguments against legal tax avoidance boil down to ethics and responsibility on
a fair share basis, or appeal to the desperate financial needs of developing countries
whose governments are also often corrupt. The arguments tend to make voluntary
tax contribution a minimum condition for demonstrating CSR (Dowling, 2014;
Jenkins & Newell, 2013; Preuss, 2012). A study in India (Muller & Kolk, 2015) con-
cluded that MNEs pay significantly higher effective rates than do local firms, with
the higher payments found more in MNE subsidiaries known for CSR than in
MNE subsidiaries less known for CSR. These findings contradict the general pic-
ture painted about tax avoidance in developing countries; although one could still
argue that MNEs should pay more because they are more able than local firms.
Another study isolated the ethics problem as aggressive tax avoidance (Christensen &
Murphy, 2004, p. 37) illuminating the moral tone in a firm’s leadership (Payne &
Raiborn, 2015).
UNCTAD (2015) estimated that the foreign affiliates of MNEs contribute about
$730 billion annually to the government budgets of developing countries.
Systematic tax avoidance would imply that considerably more money could be con-
tributed. But the problem is whether greater tax payments should go to developing
countries or developed countries. Buried in this issue is the difficult problem of eco-
nomic inequality between developing and developed countries (Garavini, 2015). An
Oxfam report in January 2015 (Elliott, 2015) sates the richest 62 people hold as
much wealth as the poorest half of the world’s population. The UN has proposed
taxing billionaires to transfer wealth to support development. The UN estimated
more than 1,200 billionaires in 2012 with a combined worth of about $4.6 trillion
(Krause-Jackson, 2012). A 1% levy on billionaires could raise up to $50 billion
(Krause-Jackson, 2012). However, presently taxation would have to occur through
national tax jurisdictions; and the issue remains why those countries should transfer
wealth in this way.
CSR has received two contradictory definitions in the literature. One definition
restricts CSR to voluntary altruism actions, beyond strict compliance with legal and
business ethics standards. The intent of this restrictive definition is to make CSR
activities appear unprofitable in any short-term time period. The definition can be
relaxed somewhat through notions of strategic philanthropy, stakeholder subsidy of
the firm. The other definition expands CSR to mean business ethics, legal
 158 Duane Windsor

compliance, and corporate citizenship (substituting for voluntary altruism). Lying

between restrictive and expansive definitions of CSR is the problem of manage-
ment’s judgment concerning appropriate multiperiod strategy for the firm.
Multiperiod strategy (including reputational effects among influential stakeholders
and the possibility of changes in public policy) helps a costly CSR investment in the
short term to yield either future profits or stronger reputational capital in the longer
term. CSR practices can involve conflicting dimensions, such as a positive approach
to communities but a negative approach to employees (Jung & Kim, 2016). Tax
avoidance might indicate “bad” CTR, but not overall “bad” CSR. International
taxation involves a distribution problem: between developed and developing coun-
tries, as well as between MNEs and host governments.
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Business Diplomacy in Tax Contribution

Although the prevailing conception of business diplomacy is that it is distinct from
and superior to lobbying or corruption of government, tax policy lies at the inter-
section of lobbying, business diplomacy, and business ethics (see Christians, 2014;
Chu, Cheng, & Lai, 2015). Tax strategy is a test of business diplomacy, in the same
sense that tax compliance is a minimum standard for CSR. Friedman (1970) argued
that firms should obey laws and also basic ethical standards while lobbying govern-
ment concerning beneficial public policies and eschewing discretionary (voluntary)
CSR beyond legal and ethical standards. Voluntarily paying excess taxes presumably
falls under Friedman’s understanding of discretionary CSR. However, Friedman’s
conception automatically leaves discretion to management to make strategic judg-
ments concerning how to balance competing stakeholder demands and expectations.
Adam Smith (The Theory of Moral Sentiments, 1759) defined good citizenship as
concern for community welfare beyond public policy compliance.
National tax codes can be riddled with so-called loopholes (i.e., technical excep-
tions). Tax policy lobbying obtains these loopholes. A “loophole” is commonly
defined (Investopedia, n.d.) as “a technicality that allows a person or business to
avoid the scope of a law or restriction without directly violating the law.”
Imperfect tax codes, riddled with loopholes or technicalities and varying globally
by jurisdiction, permit persons or entities to minimize tax payments. A tax code is
a set of detailed rules, rather than a set of guiding principles. Dworkin (1978) dis-
tinguishes among policy, principle, and rule. There is no economic advantage for a
person or an entity to pay any tax beyond legal liability. While a person or pri-
vately owned entity might view overpayment (or overcompliance) as a virtue, in a
publicly traded entity the notion of fiduciary responsibility to shareholders (what-
ever its inherent defects) must arguably be strongest in tax decisions. The decision
to pay taxes voluntarily appears to rest on business diplomacy as a strategic
orientation.
Legal lobbying is necessary in constitutional democracy both as protected free
speech and as provision of essential information to public officials (Jindal, 2008;
 MNE Tax Avoidance 159

Loomis, 2006). Legal lobbying is a prerequisite condition and as such ethically neu-
tral. Indicting public policy avoidance as unethical requires a standard for fair taxa-
tion or just compliance (Aynsley, 2014; Mankiw, 2007; Weiss, 1993). Proposed
standards are typically political claims in moral clothing. There is an allegation that
an organization such as the American Legislative Exchange Council (ALEC) prepares
legislation proposals for businesses (American Association for Justice, 2010).
Kaufmann and Vicente (2011) argue that legislatures determine what forms of
corruption are legal or illegal. Firms can also make choices with respect to corrup-
tion practices. “When faced with a regulatory constraint, firms can either comply,
bribe the regulator to get around the rule, or lobby the government to relax it”
(Harstad & Svensson, 2011, p. 46). Harstad and Svensson find that at lower levels
of country development firms tend to bribe, switching at higher levels of country
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development to lobbying. The corporate benefits and ethics of lobbying (Susman,

2009) are debated topics featuring inconclusive findings on the whole.
One author proposes, for the United States, that certain tax subsidies be dis-
allowed to business corporations that spend more than some minimum amount
(say $1 million per year) on nondeductible lobbying and other political activities
(Seto, 2010). One estimate is that in 2008, there was more than $3 billion in U.S.
lobbying activity (Alexander, Mazza, & Scholz, 2009, p. 401). Alexander and his
colleagues estimated a one-time 22,000% return ($62.5 billion in 2008 benefits,
$282.7 million in lobbying cost during 2003 2004, and $220 per $1 lobbying)
based on the tax holiday on repatriated earnings authorized by the American
Jobs Creation Act (AJCA) of 2004. The AJCA permitted a one-time-only repatri-
ation of foreign earnings at a reduced 15% tax rate. Generally, corporate tax
returns are confidential. Under the AJCA, the benefits were publicly disclosed in
audited financial statements. The authors collected lobbying data from a number
of sources. The study identified 496 repatriating firms, of which 476 provided
information on repatriation amount ($298 billion in aggregate) and resulting
taxes. Of this set, 93 firms engaged in lobbying for the AJCA and repatriated in
aggregate $208 billion (70% of the total repatriation). Regression analysis,
including a variety of controls, found that lobbying was highly associated with
amount repatriated. Several firms borrowed funds to repatriate as “earnings.”
Industry and firm size were the best predictors of repatriation; profitability was
not, although repatriating firms were more profitable, and cash was not.
Farrell (2011) points out that the Alexander study provides no evidence that
any votes were changed as a result of the lobbying activities of the 93 firms. The
legislators might have voted the same way, on ideological grounds. Rather the
study’s finding was that lobbying firms benefited more than nonlobbying firms.
Farrell points out further that larger firms likely had more funds to spend on
lobbying. However, Farrell concedes that in theory lobbying has some benefit, or
firms would not lobby; his point of criticism is that the estimated rate of return
is far too high. One might interpret the action of the lobbying firms as something
like a hedge: better to put up $282.7 million (some of which might have been
spent anyway on lobbying) just in case (and in a successful hedge subtracted
from the resulting benefits).
 160 Duane Windsor

Economic Patriotism and Corporate Inversion

Minimizing tax liability in the home jurisdiction involves the issue of economic
patriotism, which can be defined as practicing proper corporate citizenship at
home. Minimizing tax liability in a host jurisdiction involves the issue of proper
corporate citizenship abroad. A “footloose” MNE effectively accepts no moral alle-
giance (patriotism) to a home jurisdiction in the conventional sense. A broader con-
text for CSR occurs when a jurisdiction’s governmental/political system is corrupt
in forms of illegal bribery and extortion.
The rhetoric of economic patriotism has appeared in both the United States and
Europe (Clift & Woll, 2012; Obama, 2012). Obama used the term in the 2012 presi-
dential campaign (Bump, 2014; Croucher, 2015). The notion of “economic patriot-
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ism” or “corporate citizenship” as a true citizen of a home country is in conflict

with realities of global business opportunities (Foroohar, 2012; Shapiro, 2012). It
remains debatable whether a concept of economic patriotism can be applied effec-
tively to an MNE (Yosifon, 2016).
On September 22, 2014, in announcing new rules aimed against inversions,
Treasury Secretary Jacob Lew stated: “These transactions may be legal, but they’re
wrong” (Davis, 2014, p. D1). On September 22, 2014, Treasury Secretary Jacob Lew
announced rules intended to reduce or eliminate the economic incentives for inver-
sions (Davis, 2014). Reported pinion among corporate advisers was that the effect
would be to make inversion deals less lucrative rather than to halt deals (Houston
Chronicle, 2014b). In a letter to the Congress which is available online for ready
access, Lew (2014) wrote: “... these firms are attempting to avoid paying taxes here,
notwithstanding the benefits they gain from being located in the United States.” He
characterized the attempt as “effectively renouncing their citizenship to get out of
paying taxes” and articulated the notion of economic patriotism: “What we need as
a nation is a new sense of economic patriotism, where we all rise or fall together.”
In September 2014, five liberal U.S. Senators (four Democrats and one
Independent) sent a letter to the CEO of Burger King opposing the move of its
corporate headquarters to Canada from Miami. The letter reads in part: “We
believe you will find that turning your back on your loyal U.S. taxpaying customers
by renouncing your corporate citizenship is not in the best interest of Burger King
or its shareholders.” The letter also accuses Burger King in the words of a news
report “of trying to avoid paying its fair share for roads and other public services it
receives in the United States” (Houston Chronicle, 2014a). The letter contains the
following notions: loyalty, corporate citizenship, best interest, fair share, and corpo-
rate benefit (“roads and other public services”).
In a corporate inversion, a firm merges with or acquires a smaller firm in a dif-
ferent country and relocates its legal business address to the other country for the
purpose of shifting legal and tax residence (Freedman, 2014). It is not strictly estab-
lished that tax breaks drive corporate inversions (Hall, 2014). Corporate inversion
is just one form of tax avoidance. Other forms include for example “transfer-pric-
ing, re-invoicing, offshore ‘special purpose vehicles’, ... dubious charitable trusts ...”
 MNE Tax Avoidance 161

(Christensen & Murphy, 2004, p. 37). Senator Charles Schumer (D-NY) called for
Congressional legislation to stop “earnings stripping” in which a parent company
loads a U.S. subsidiary with tax-deductible debt (Davis, 2014, p. D6). In so-called
“dividend arbitrage” operating mostly through London banks may temporarily
transfer ownership of client shares to a lower tax jurisdiction when a dividend is
expected.
The U.S. Congressional Research Service (Marples & Gravelle, 2014) reports
that 75 U.S. firms have made inversions over the past two decades (Freedman,
2014). Recent inversions include pharmaceuticals AbbVie (Chicago) and Mylan
(Pittsburgh) shifting to Europe (Freedman, 2014). Accenture, once Andersen
Consulting, went to Bermuda in a 2001 inversion and is now incorporated in
Ireland (Bump, 2014). Certain oil field services providers originally headquartered
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in Houston moved early (Freedman, 2014). Transocean moved to the Cayman

Islands (1999), and then to Switzerland (2008). Noble Corp. moved to the Cayman
Islands (2002), then to Switzerland (2009), and then to London (2013).
Weatherford International moved to Bermuda (2002) and then to Switzerland
(2008) (Eaton, 2014a). The three firms saved an estimated $2.923 billion in taxes
during 2002 2009 (Freedman, 2014). A corporate inversion both saves taxes and
facilitates repatriation of foreign earnings to the United States (Freedman, 2014).
There appear to be three kinds of corporate inversions: (1) to please host-country
regulators; (2) to reduce aggregate tax liability; (3) to take advantage of regulation
havens. Burger King’s shift to Canada appears to be an instance of pleasing
Canadian regulators concerning acquisition of a Canadian firm rather than (2) or (3).
The most general approach to altering economic inversions would be to reduce
corporate tax rates and go to residence-neutral taxation so that location is irrele-
vant. Public policy solutions may tend to create new loopholes. A 2004 law
attempted to reduce inversions by requiring a 20% threshold: former U.S. share-
holders must own less than 80% of the merged company (Freedman, 2014). Firms
introverting prior to the law are not affected by the requirement (Freedman, 2014),
and presumably not by new requirements
The recent rise in corporate inversions in the pharmaceutical industry likely
reflects high profitability such that there are significant tax advantages (Professor
Mark V. Pauly, quoted in Knowledge@Wharton, 2014). One proposed policy option
is to reduce the U.S. corporate tax rate and tax code complexity. The Obama admin-
istration proposes requiring shareholders to own 50% of the new entity, and a so-
called “smell test” in which companies operating primarily in the United States
would be treated for tax purposes as U.S. corporations (Freedman, 2014).

Tax Havens and Transfer Pricing Practices

Tax havens, and similarly special purpose entities operated abroad, are a tax avoid-
ance opportunity provided by a host national government. Transfer pricing is an
internal business choice, subject to home-country and host-country regulations.
 162 Duane Windsor

Corporate tax strategy can be separated into two different kinds of problems.
One problem, discussed earlier, involves jurisdictions that are less “developed” and
sometimes markedly corrupt. The other problem involves tax havens among juris-
dictions that may be comparably “developed” economically and politically. The EU
is trying to address certain tax havens allegedly operated by certain member-states.
Tax havens typically offer reduced tax rates to attract MNE activities (Gravelle,
2013; Redinova & Smrcka, 2013).
A study of firms headquartered in Bermuda and the Cayman Islands which
are offshore finance centers (OFCs) found a significant discretionary between tax
avoidance behavior and use of formal tools to profess CSR (Preuss, 2012). The
author characterizes this discrepancy as duplicity.
With respect to tax havens (see Ali Abbas, Klemm, Bedi, & Park, 2012;
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Krugman, 2013), Kay (2013) has recommended a number of possible reforms: “...
removing interest deductibility, introducing an allowance for the cost of corporate
equity or shifting the tax base towards cash flow rather than accounting profit. ...
Opportunities for tax avoidance are everywhere and always the consequence of
rules that treat economically similar transactions differently.” Additionally, such
rules as exist are rarely enforced, as authorities prefer to negotiate (Kay, 2013). Kay
advocates taxing shareholders rather than companies, and if necessary for some rea-
son to tax companies then to tax free cash flow or economic rent (i.e., earnings in
excess of cost of capital). One study (Becker & Fuest, 2010) suggests that optimal
tax-enforcement policy may be difficult to design in the presence of tax havens. An
empirical examination of 2,067 U.S. MNEs (1994 2009) found greater earning
management if the firm operates extensively in weak rule of law countries than if
the firm operates extensively in strong rule of law countries (Dyreng, Hanlon, &
Maydew, 2012). The study developed a similar finding with respect to extensive
subsidiaries in tax havens. However, the study also concluded that most earnings
management occurred in domestic rather than foreign income.
For the period 1993 2010, generating 16,340 firm-years, tax avoidance tends to
coincide with less timely annual earnings announcements operating through greater
temporary and permanent book-tax differences. Tax avoidance also impacts value-
relevance of earnings to investors at announcement date (Crabtree & Kubick,
2014).
MNEs may hold an estimated $2 trillion in low-tax jurisdictions (Bloomberg
News, 2014b, quoting the OECD Secretary-General). Some 30% of cross-border
corporate investment is routed through offshore hubs before reaching a final desti-
nation (UNCTAD, 2015). One estimate is that tax revenue losses for developing
countries linked to offshore hubs total $100 billion annually (UNCTAD, 2015).
Transfer pricing is one of the approaches used to control tax jurisdiction location
of profits and costs (Durst, 2011; Spencer, 2012). The EU commission found that
low-tax treatment for Apple in Ireland, where the firm “funnels the bulk of its inter-
national sales through subsidiaries” using “exaggerated transfer pricing” (Baetz,
2014), is state aid that may be illegal under EU law.
The transfer pricing problem lacks a widely accepted theoretical solution and is a
matter of proposed norm (Baistrocchi, 2006). Problems in defining policy are that
 MNE Tax Avoidance 163

(1) the arms-length standard (ALS) (Rectenwald, 2012, p. 426) must be estimated as
there is no external transaction, (2) there is a cycle of offshore tax deferral while
waiting for a repatriation holiday (Rectenwald, 2012, p. 449), and (3) there are dis-
agreements (such as the Irish tax haven policy) hindering intergovernmental cooper-
ation. There are two different model tax conventions, by the UN and the OECD,
which are in some tension (Murphy, 2011). A reason for this tension is that the UN
tends to represent the interests of developing countries and the OECD the interests
of developed countries.

Four Possible Solutions

There is a lively debate over whether corporate tax avoidance can be fixed
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(Knowledge@Wharton, 2013). There are four general solutions to the problem of

tax avoidance for discussion. Real outcomes will likely combine all four of these
solutions in variable patterns.

(1) MNE management (executives and directors) can voluntarily make higher tax
payments on an ethical conception that firms should pay some “fair” tax burden
not defined by tax law requirements. This solution calls on one or both of ethics
and business diplomacy. Fairness is difficult to define normatively. It is not pos-
sible to satisfy all stakeholder groups, as shareholders (and possibly employees if
compensation or employment level is affected) can feel “unfairly” burdened
through a voluntary choice of management. Virtue or responsibility takes the
form of overpayment in violation of fiduciary responsibility. Economic patriot-
ism is meaningful for domestic firms, with no option or interest to operate trans-
nationally. The appeal cannot have useful relevance for an MNE operating
across multiple jurisdictions. Public policy is open to influence efforts by the
very MNEs to be regulated; and those MNEs may have opportunities to shift
activities among jurisdictions in competition with one another.
Fair Tax Mark is a private certification that a firm complies with standards
for fair tax compliance. SSE plc, the second largest UK energy supplier and a
FTSE100 company, has Fair Tax accreditation (Fair Tax, n.d.). SSE is the first
FTSE100 firm to get accreditation (SSE trailblazes, 2014; SSE plc awarded,
2015).
A study of 3,040 U.S. firms (1991 2010, involving 16,606 firm-year observa-
tions) found that internationalization is positively related to the firm’s CSR rat-
ing (Attig, Boubakri, El Ghoul, & Guedhami, 2016). The authors found a
similarly positive relationship for a large sample of firms from 44 countries. The
positive relationship also held for firms with extensive foreign subsidiaries in
strong rule of law countries.
A study using 217 tax-avoidant and 217 non-tax-avoidant firm-year observa-
tions for 2003 2009 from the Kinder, Lydenberg, and Domini database found
that more socially responsible firms display less tax avoidance (Lanis &
Richardson, 2015). CSR categories for community relations and diversity were
particularly important in this relationship.
 164 Duane Windsor

(2) All tax jurisdictions might adjust taxation codes in some way that makes tax
liability shifting infeasible. Tax avoidance might be reduced by coordinated tax
policy changes. This solution requires difficult tax policy coordination,
although initial efforts are underway (within the EU and across multiple coun-
tries) to do so. A fundamental difficulty in tax coordination is that (a) some
jurisdictions will prefer higher tax rates and some jurisdictions will prefer lower
tax rates, and (b) some jurisdictions may see incentives to “cheat” on the
coordination. Shareholders may complain about tax policy, but not about man-
agement compliance with tax policy. Tax coordination involves division of a
fixed pie, together with the dynamics of how tax rates influence economic
growth and thus tax yield over time. An international tax organization (Horner,
2001) may not be able to cope with the distributional politics of this division.
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While better international coordination might reduce location advantage with

respect to tax liability, there may be other location advantages, as reflected in
Burger King’s decision to relocate to Canada. An alternative to international
policy coordination is parallel domestic tax reform in enough countries so that
the problem of international cooperation does not arise.
A simpler approach is international cooperation rather than tax coordination
(Bank, 2013). OECD is working on plans for exchange of information concern-
ing corporate tax avoidance strategies (Bloomberg News, 2014b). In late
October 2014, 51 countries signed an accord to combat tax evasion through
automatic exchange of tax information from 2017; however, Switzerland and
the United States were not signatories. Switzerland maintains marked banking
system secrecy; and the United States has opted to pursue its own strategy
(Smale, 2014). The 51 signatories are members of the 123-country Global
Forum organized by Germany and the United Kingdom to address tax evasion
and fraud (Smale, 2014). The broader policy problem is to coordinate tax policy
as distinct from tax enforcement through information exchange.
(3) Stakeholder groups may possess, or develop, sufficient “power” to influence
MNE and tax policy choices. Politician “jawboning” (as in the United
Kingdom recently) and media criticism are instances of such influence efforts.
Responsiveness, of which tax compliance is a subcategory, can be to pressure
by public officials, media, and/or stakeholders (external or internal).
Medtronic is acquiring Covidien, Ireland, for $43 billion to invert. In
August, Medtronic disclosed its intention to reimburse its CEO for a $24.8 mil-
lion inversion-generated tax bill. The 2004 law imposed a 15% tax on stock and
option awards given to personnel of inverting companies (Knowledge@
Wharton, 2014). While the new Treasury rules apparently halted a Salix
Pharmaceuticals merger with an Italian drug firm’s subsidiary, Medtronic dis-
closed in September that it will borrow part of the funds for the Covidien
acquisition (Houston Chronicle, 2014c).
MNEs can lobby, or help corrupt, national governments. Lai (2014) added
interest group influence into the standard tax competition model. A finding was
that smaller countries do not necessarily set lower capital tax rates relative to
larger countries. Rather the smaller country weighs political effect from
 MNE Tax Avoidance 165

lobbying against efficiency effect of lower tax rate. If the smaller country faces
less lobbying effort, then it may set a higher tax rate than the larger country. In
this approach, the tax rate partly depends on lobbying effort.
(4) Tax liability might be negotiated by MNE management with each tax juris-
diction in order to reduce likelihood of increase in formal taxation codes and to
reduce stakeholder pressures. A possible difficulty in negotiation is that
whether voluntary tax payments to corrupt governments have an ambiguous
status under anti-corruption accords and statutes. This issue requires further
investigation.

The difficulty is that negotiating power may lie with firms rather than with coun-
tries. In the period preceding the Scottish (referendum) vote on September 18, 2014,
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on independence from the United Kingdom, some important businesses expressed

opposition to independence. Standard Life insurance stated that it might shift
operations and legal entities (Rankin, Carnell, & Mongahan, 2014). Royal Dutch
Shell and BP warned against secession because of reported concern regarding the
prospect of increased oil-production taxes levied by Scotland (Eaton, 2014b). Two
leading banks warned they would move corporate headquarters (Royal Bank of
Scotland, which is majority owned by UK taxpayers following the 2008 government
bailout) or legal entities (Lloyds Banking Group owner of Halifax and Bank of
Scotland) to England (Hui & Kelbie, 2014).

Conclusion: The Broader Context of Public Policy Avoidance

There are four corporate approaches to managing business government relations

along a continuum from strongly ethical to strongly unethical: (1) strict compliance
with public policy; (2) legal lobbying to change public policy; (3) public policy
avoidance by shifting in some way; and (3) illegal corruption to change public pol-
icy. Compliance is strongly ethical. Legal lobbying and public policy avoidance are
ethically neutral. Illegal corruption typically bribes and improper donations is
strongly unethical.
As CTR is one dimension of CSR, so tax avoidance is one dimension of an
expanded notion of public policy avoidance (Leitzel, 1996 1997). The broadest
scope of this chapter becomes the question of public policy avoidance (in any form)
by MNEs having the ability to move legal jurisdiction or shift activities. The essen-
tial question concerns whether and if so why virtuous behavior, good citizenship,
and justice theory reach a limit when applied to legal tax and regulatory avoidance.
A general conception of public policy avoidance includes instances such as corpo-
rate inversion, other tax avoidance, and regulatory haven decisions. These instances
are legally permissible choices, but subject to moral and political criticism intended
to promote voluntary self-regulation and changes in public policy strengthening
regulatory controls. Economic patriotism and CSR arguments call for voluntary
self-regulation by companies in advance of public policy changes.
 166 Duane Windsor

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